Political risk

“No man’s life, liberty, or property is safe while congress is in session” — Mark Twain (or Will Rogers)

In a recent study by Ferguson and Witte it was found that when congress is in session in America, the stock market returns are lower and volatility is higher. Several reasons are suggested. One reason could be that people don’t like politicians, so when they hear about politicians they get depressed and don’t want to buy shares. Perhaps. But I find the other explanations more believable. As the authors say:

“A second interpretation of the data sees Congressional activity as a proxy for regulatory uncertainty. Our tests can be thought of as an investigation of Malkiel’s (1979) hypothesis that regulatory uncertanty acts as a drag on economic performance. In particular, he conjectured that investors viewed greater Congressional activity as increasing regulatory uncertainty and that this greater uncertainty would be reflected in higher return volatility and lower returns.

“A third interpretation takes the view that regulatory bodies are frequently captured by powerful, concentrated economic interests. In this scenario, Congress is not generally acting in the interest of the broad public, but rather in the service of powerful financial and economic incumbents. In this case, Congressional activity reflects rent-seeking behavior on the part of these incumbents.”

Both of these explanations are variations on the idea that the government creates political risk for business, and the more the government does then the greater the political risk. This is a very hard issue to pin down because the data is hard to isolate, but the potential impact of a changing political risk premium is significant and this may be a larger issue than many people realise.

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4 thoughts on “Political risk”

Actually it does not suggest that the problem is the amount the government does. It suggests that the problem is how often the government alters what it does. In other words it suggests the markets like conservatives (small c) not libertarians.

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